Social media giant’s cryptocurrency Libra – now called Diem – has had to curb its ambitions. But it’s mission is far from over, as it revises its whitepaper in light of regulatory criticism.

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Citi’s annual Digital Money Symposium, now in its eighth year, is always an interesting affair and attracts notable speakers from across the payments industry. This year, one of the highlights was a virtual fireside chat with Christian Catalini, co-creator of Diem (formerly Libra) and chief economist at the Diem Association, who talked about the more measured approach the group is taking to launching its cryptocurrency.

When Libra broke onto the world scene in June 2019, its backers – Facebook and other platform players like Uber, Spotify, eBay and Booking.com (plus 24 more companies) – had great ambitions embedded in its whitepaper.

The group was planning to launch a stablecoin within a year to “enable a simple global currency and financial infrastructure that empowers billions of people”. The Libra coin was going to be backed by a reserve of safe assets and built on a permissioned blockchain to reduce the cost of payments, especially cross-border payments.

However, the idea that with a flick of a switch almost a quarter of the world’s population could transact on a global level outside the traditional financial system sent shivers through the protectors of the system. Regulators, supervisors, policymakers, finance ministers and central bankers were quick to throw up barriers to Libra’s launch, but this move by Facebook also spurred them to ramp up experiments with central bank digital currencies (CBDCs), with some of them now close to becoming a reality.

Fast forward a few years, some of the original members departed, notably Visa, Mastercard and PayPal, and the Libra concept was reimagined in response to regulatory criticism. Libra was rebranded as Diem in December 2020, with significant changes to the original whitepaper, although it is continuing to pursue a payment system licence through the Swiss Financial Market Supervisory Authority, or Finma.

The first major change is that it has moved from being a multi-currency to a single-currency stablecoin, such as a Diem euro or Diem dollar. Mr Catalini explained that this helps to mitigate currency substitution risk, one of the major concerns raised at the outset. The coins will be backed one-for-one by high-quality liquid assets, such as 90 days or less US Treasuries in the case of the Diem dollar, which will be the first coin available on the network, according to Mr Catalini. Diem will also follow Basel III's capital requirements and put in place additional buffers to account for potential losses from credit, market, liquidity and operational risks.

Despite addressing several regulatory challenges, Diem may not be able to solve one of the biggest concerns: that a private group could control the global payments system

The overall design could support a transition towards CBDCs, according to Mr Catalini. “You could imagine a future where if a CBDC becomes available in any of the jurisdictions where Diem is operating, the network could integrate directly with the public sector effort and provide additional functionality and features when it comes to payments on top of the public sector rails,” he said.

The second major change addressed concerns around financial crime. The new design excludes un-hosted, or self-hosted, wallets, which are personal virtual wallets that are not provided by a financial institution or crypto service and, therefore, have not gone through know your customer or anti-money laundering checks. In tandem, the Diem Association has also abandoned the idea of transitioning to a permissionless network, where anyone can add nodes to the blockchain.

Mr Catalini also signalled Diem’s intention to operate in close co-operation with a number of global custodian banks. “The banks will be the direct interface between virtual asset service providers (Vasps) and the network. For example, consumers in the US will only be able to access the network via a Vasp, such as a wallet or an exchange, that is already regulated and licenced in the US to perform those exact activities,” he said. “And the Vasp itself can only acquire, buy and sell coins through a bank that also needs to be regulated in the relevant jurisdictions.”

Despite addressing several of the most pressing regulatory challenges, Diem, by its very nature, may not be able to solve one of the biggest concerns: that a private company (or group of companies) could control the global payments system.  

In their book, ‘The Pay Off: How changing the way we pay changes everything’ (coming out in July), Swift’s ex-CEO Gottfried Liebbrandt and former head of corporate affairs Natasha de Terán argue it is the act of making a payment, not money itself, that makes the world go round. Get payments right and economic activity prospers; get them wrong and economic activity could be stifled.

When considering the Libra/Diem developments, the authors acknowledge that one global currency underpinned by a single organisation would be simpler, doing away with a swathe of intermediaries (including Swift). However, they pose the question that has plagued many within the industry, especially the regulators: do we really want a social media company at the epicentre of the global financial system?

Joy Macknight is editor of The Banker. Follow her on Twitter @joymacknight

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